Description

For hundreds of years international trade has occurred between countries each with the intention to make benefits from trade. The emphasis was based on the mercantilism theory, from the mid-sixteenth century, that encouraged exports but discouraged imports. In the last century there were high amounts of trade barriers across most countries which still exist today these act as protection measures for domestic trading, against international competitors.

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2. The concepts of absolute and comparative advantages.
All countries produce a variety of goods, in the form of raw materials, food, car manufacture, textiles and so on. When a country can produce more of a particular good than another country, while using the same amount of input, it is described as having an absolute advantage over the other producers. The most effective way for countries to use their inputs and recourses is not to spread them out over the different productions but to specialise in production of goods and to trade internationally. How best to do this is shown by comparative advantage.

The theory of comparative advantage shows how countries can gain from trading with each other even if one of them is more efficient and has an absolute advantage in many, even every, economic activity. The absolute advantage for a country is identified and then according to David Ricardo (1772-1823) specialization and trade of goods follows depending on where the comparative advantage is.

Appendix 1 shows an example of two countries and the amounts of meat and bread they can both produce; this is represented by two production possibility frontier lines. In our situation, Country 2 has a relative advantage in producing bread it can produce more bread (32,8 at the most) than Country 1 awhile contrasting to this Country 1 has a relative advantage in producing meat 24,16 at the most). The graph also indicates the points on the frontier where the production inputs are split, and it it clear to see that negetivly the level of outputs overall are reduced.

In addition to this the graph is another, see appendix 2, where specialization and trade benifits are illustated. The countries have traded Country 2 has given 5 units of bread to Country 1, Country 1 in return gives 10 units of meat to Country 2. As a result both countires are better off from trade than if they had not traded and the overall ouputs of both goods have risen. Both countries can consume more of both if they trade, but at what price? As neither will want to import what it could make more cheaply at home.

3. Trade restrictions.
Terms of trade can be fixed to ensure that the imports of one good exchanged for the exports of another good will still result in both participants being better off than if they did not trade. The United States of America has a strong history of complying with trade restrictions such as tariffs to help protect infant industries, including bounties (subsidies) derived in part from those tariffs. The country was a main leader opposed to free trade theory, in which no restrictions apply. Tariffs are examples of trade protection they are a tax on imports and, therefore increase trading costs which discourages countries to export to them thus increasing domestic supply. Governments can restrict trade in other ways, quotas limit the quantity of a product that can be imported i.e. a steel quota can limit the importation to 200 million tons a year.
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